Lease Vs Finance – Is Leasing Or Buying A Car Better?

A car lease is a financial agreement that allows an individual or a business to use a vehicle for a specific period in exchange for regular payments. Unlike traditional auto financing, where the ultimate goal is eventually owning the car, a lease is more like a long-term rental.

In a car lease, the lessee (the person or entity leasing the car) makes payments to the lessor (the entity providing the vehicle, often a dealership or leasing company) for the right to use the vehicle.

A typical car lease includes:

• Lease term: Leases typically last for a fixed term of two to five years, during which the lessee is responsible for making monthly payments.
• Insurance requirements: Leased vehicles generally need specific car insurance coverage beyond basic limits.
• Mileage limits: Lessees are often limited in the miles they can drive yearly. If they exceed these limits, they may have to pay extra charges at the end of the lease term.
• Monthly payments: Lessees pay monthly fees to cover the vehicle's depreciation, financing, and other costs as per the lease agreement.
• Residual value: The residual value refers to the anticipated value of the vehicle when the lease term ends. This value is established at the start of the lease agreement and plays an essential role in calculating the monthly payments.
• Upfront costs: Lessees may need to make an initial payment, which includes a down payment, a security deposit, and other fees. However, leasing a car often requires a smaller upfront payment than buying one.
• Wear and tear: You are responsible for maintaining the leased vehicle. Excessive wear and tear may result in additional fees upon return. Normal wear and tear is expected, anything beyond that may cost you extra.
• Early termination fees: Terminating a lease early incurs substantial fees, so fulfilling the entire lease period is vital unless there's a valid reason.

A car lease typically lasts two to five years. You are paying to use the vehicle and the vehicle value you use during the lease with a lease. Leases can come in many types: standard leases, lease to own, and lease takeovers.

At the end of the lease term, the lessee has several options:

• Return the vehicle: The lessee can return the car and, if they stayed within the mileage limits and the vehicle is in good condition, walk away without additional charges.
• Purchase the vehicle: Some leases offer the option to buy the vehicle at the end of the lease term. The purchase price is often predetermined and includes the residual value.
• Lease a new vehicle: Some individuals choose to return their leased vehicle and lease a new one, continuing the cycle of having a new car every few years.

Leasing a vehicle can appeal to those who prefer to drive a new car every few years and want lower monthly payments than buying. However, it's essential for potential lessees to thoroughly comprehend the terms and conditions of the lease agreement before committing.

Your decision to lease or finance does not directly impact your car insurance quotes. However, you will need to meet the leasing company's requirements when leasing. You’ll also need to consider gap insurance, which is often included, but be sure to ask if it is included.

Since your leasing company still owns the vehicle, you will need to have specific coverage in place to protect the car. Leasing companies will require you to have comprehensive insurance and collision insurance.

You will also need to carry a certain amount of third party liability and specific policy endorsements. Your decision to lease or finance can slightly impact your coverage needs.

Before deciding about leasing or finance, you need to understand your driving needs and habits and, more importantly, which is most financially supportive. Ask yourself :

• How much of a monthly payment can I afford?
• What is more important – the monthly payment or the total cost of the vehicle?
• How will I pay for the car – cash on hand? Financing? Line of credit?
• Do I plan to make a down payment?
• How many kilometers do I drive?
• Do I want/need a new automobile every few years?
• Do I want something to trade in on my next vehicle?
• How long would you like to keep your automobile?
• How many kilometres do you drive annually?
• Do you take care of your automobile or stick to a maintenance schedule?
• Do you want to add any vehicle modifications?
• Is it important for you to have equity in it?

Even though choosing an automobile can be very emotional, you need to make a rational decision, especially regarding finances.

When you finance a vehicle, you borrow money from a financial lender. When you finance an auto loan, you have entered an agreement to make monthly payments. You will pay more per month compared to leasing. Once the loan is paid, you will own the vehicle. Auto dealers have relationships with several lenders. You can choose one of their lending partners or get financing independently.

The critical difference between leasing and financing is vehicle ownership. At the end of a financing agreement, you will own the vehicle. With a lease, you will not own the car. With financing, every payment you make goes toward paying off your loan. Once the loan is paid off, you have 100% equity in the vehicle.

According to Statistics Canada, the average interest rate for car loans in Canada is 8.19%. However, the actual interest rate you will be charged depends on several factors, such as whether you're purchasing a new or used car, your credit score, the purchase price of the car, and whether the loan is based on a fixed or variable interest rate.

Typically, car buyers can expect to pay anywhere between 6.7% and 9% interest on their car loan.

On the other hand, if you're considering a car lease, the interest rate you'll be charged will depend on your credit score and income. Generally, car lease interest rates range from 3% to 15%.

Example of how car loans for a leased vehicle work

Suppose you want to lease a car for $30,000 over 36 months. The dealer offers two financing options with different interest rates.

Option 1: 3% Interest Rate

Option 2: 6% Interest Rate

Now, let's break down the impact of these interest rates on your monthly lease payments:

Option 1: 3% Interest rate

The formula for calculating monthly lease payments can be complex, involving capitalized cost, residual value, and money factor. However, for simplicity, let's use a rough estimate.

Lease Payment = (Capitalized Cost - Residual Value) / Lease Term

Assuming the capitalized cost is $30,000 and the residual value (the estimated value of the car at the end of the lease term) is $15,000:

Lease Payment = ($30,000 - $15,000) / 36 = $416.67 per month

Option 2: 6% interest rate

Using the same formula, the lease payment with a 6% interest rate would be:

Lease Payment = ($30,000 - $15,000) / 36 = $444.44 per month

We can conclude:

Lower interest rate (3%): With a lower interest rate, your monthly lease payment is $416.67. Over the 36-month lease, you would pay a total of $15,000.

Higher interest rate (6%): Your monthly lease payment increases to $444.44 with a higher interest rate. Over the 36-month lease, you would pay a total of $16,000.

When considering a car lease, paying attention to the interest rate is important. A higher interest rate increases monthly payments and overall costs.

The overall car cost of leasing versus financing can change based on the term. In the short term, with everything the same (term, price, interest rate, down payment), a monthly lease payment will be more than 30% less than a monthly finance payment.

However, things begin to balance out as the term length gets longer. Monthly payments can be reasonably even for medium-term agreements. In the long term, financing can be cheaper than leasing. Consider all financial factors, terms, and options to determine which option is the most affordable and meets your financial needs.

Compare your cost options by using this lease calculator.

Another component to leasing a vehicle in Ontario is the type to move forward with. The most common option is a closed-end lease, which allows consumers to return the vehicle at the end of the term. Here’s a look at other options:

• Lease to own vs financing: When leasing to own, you will own the vehicle like when you finance. The main difference is that the vehicle owner (dealership) will hold onto the title of the vehicle when you lease to own it until it’s paid off. When you finance, the title is transferred over right away.
• Finance lease vs operating lease: In a finance lease, ownership is transferred to the lessee at the end of the lease term. In an operating lease, ownership is retained by the lessor during the term.

Ownership costs can quickly add up, and drivers continually search for ways to reduce those costs. For some people, leasing is one significant way to reduce the monthly costs.

Studies show that people who lease are as satisfied as those who finance an automobile. According to CTV news, 66% of people who lease were very satisfied compared with 69% who were very satisfied with financing or buying.

When you lease, you enter an agreement with a leasing company that gives you the right to drive the vehicle you choose - leasing is like a long-term rental. Your payments don’t build equity as an automobile loan, and payments do.

You can still negotiate the terms of the deal, including the length of the lease, monthly payment, rate of interest, and kilometre limits. Consider negotiating a buyout price (residual value) at the end of the contract – if you decide to buy it.

Owning gives drivers much more flexibility with how they use their car and what they do to it. Buying allows you to make modifications, drive it as you please, and use it as an asset.

If you have the resources, you can pay with cash, which gives you good negotiation power. However, most people take out a loan. You can secure a loan through the dealership you are working with, but you can also get a loan with your bank or a lending company or even use a personal line of credit.

When purchasing a vehicle using a loan, your lender is the one who owns the car until you finish paying off the loan. You can negotiate the loan term, the interest rate and the monthly payment with your finance expert.

Leasing a vehicle may not be a good idea for you if:

• You drive a lot: When you own your car, you don’t need to worry about the number of kilometres. There are mileage limits and financial penalties if you exceed them with a lease.
• You plan to keep the vehicle for a long time: Once you pay off your car loan – which is often a 48 to 60-month term, you own the car. It’s an asset you can use toward trade-in value on another new automobile or continue to drive payment-free.
• You want to customize your car: Some people like to add extra features such as specialty tires or safety features. If you lease a vehicle, you must remove any modifications or customizations you have made when the contract is up.